Thursday, March 20, 2008

Gold has fallen by $80 to $920 and US$/Yen has gone up from 97 yen to 100 yen.

Gold is often used as a flight to safety. During times of financial crisis the price of gold shoots up because people are not sure if their paper money will be worth anyting in the event of a collapse. The fall in gold price signals that the fear in the financial markets has subsided. The rise of the US$ also signal that some confidence returning to the US economy.

In my previous post on the "Asian Crisis vs Subprime" crisis, I stated that Bernanke has to do something pretty drastic early to halt the loss of confidence. I wrote that Bernanke will take something out of his old playbook to halt falling markets using an element of surprise and I wrote that it is better to allow some moral hazard to prevent the crisis from spreading and turning into an uncontrollable contagion. Ben has done all that. History will judge him based on how the US economy progresses but I think he has done his best and has taken alot of risk to pull the financial markets away from disaster. If the world ever get out of this one without severe economic pain, we have Ben to thank.

The other strange thing that occurred after Bear Stearns went down is the sudden collapse of the commodities bubble and a correction in oil prices. This bubble has been partially responsible some of the inflation we have been seeing and the fall in commodity prices will help to moderate inflation. Also, the money coming out of commodities appear to be headed somewhere, given the US treasuries are very high, I think the money will go into stocks and we might see a rally (which may be short-lived due to the recession) coming our way.

I believe that inflation will soon be contained and we will not see the 1970s type of inflation hitting us. In the past there was a correlation between inflation and employment. Businesses were more eager to hire if they can raise prices. Take the example of the prata man at the coffee shop, after he raised his prices, he might want to hire a helper with the extra profits. Milton Friedman wrote an insightful paper that said that the relationship between employment and inflation cannot be sustained because workers will begin to realise they are being ripped off by higher prices and will begin to demand for higher wages. Higher wages will mean lower employment. Friedman was proven right in the 70s when high inflation and high unemployment existed at the same time. I believe that inflation will now be contained because none of us can go to the boss to ask for a raise. In the 70s, many workers were unionised and could demand higher wages.....that power is gone. Being unable to ask for higher wages, workers now cope with inflation by consuming less and switching to alternatives....this will put a cap on how much prices can rise. After that 20cents increase in the price of my prata-with-egg, prices have held steady. The price of bread increased in the beginning of the year and stopped. The US CPI showed no price increase from Jan to Feb. If they increase taxi fares again, the taxi companies will put themselves out of business because workers won't be getting the pay hikes to pay for the increase.

What is going to happen now is the US economy will sinking into recession due to falling property prices and a consumer slowdown. Some parts of its credit markets have malfunctioned and the effectiveness of the rate cuts is lower than desired. The global economy remains relatively strong as seen from Singapore's exports - it was still growing with the rest of the world compensating the lower demand in the US. Wall Street's biggest bear Peter Schiff believes that all it takes for the rest of the world to carry on is to learn to borrow and consume like the Americans. There is nothing the Americans are doing that we can't do in Asia - we just have to save less and spend more and that will save the world economy!!!

I'm of the minority view that worst of the crisis is behind us. To spook the financial markets further would require a collapse bigger than Bear Stearns. This is akin to riding a roller coast we went through the biggest 360 degree, everybody is afraid but the cannot be made more frighten. Most investors are waiting for the next shoe to drop.......after waiting for a while they might realise that the next shoe isn't dropping. It is just my gut feel that the financial system will survive this mess and things will start to stabilise from now on. The next problem to grapple with will be the recession. Recessions come and go ...and each of us have to live through a few of these. As for crisis, I hope this is the last one in my lifetime. ...I don't think my heart can take too many financial crisis.

In case I'm wrong about this crisis, the instructions on what to do to survive is found in Peter Schiff's latest book - Crash Proof: How to Profit From the Coming Economic Collapse. I understood alot about the current crisis from Peter Schiff's writings and interviews. From this point onwards my views and his diverge - his view is there is nothing anyone can do to avert an economic collapse. Peter Schiff is an intelligent guy, I can understand what he says but just can't get myself to be as pessimistic as he is.

1 comment:

The massive pay cheque day has certainly boosted Mr Market's confidence, the short term volatility seem to have dipped, the swift resolve of the run on Bear Sterns, unlike the monoline drag, Mr Market seems to have finally accepted the notion of a recession, either way the odds go, it will damp the downside.

Now just have to sit and wait for momentum, expect SWF, bottom-feeders buying up discount?